Christian Catalini and Catherine Tucker ‘Antitrust and Costless Verification: An Optimistic and a Pessimistic View of the Implications of Blockchain Technology’

This paper’s basic argument is that the blockchain holds both promises and threats for antitrust.

There is reason to think that the decentralised nature of some blockchain implementations may reduce the need for antitrust enforcement, as it prevents the accumulation of market power by digital platforms. But there is also reason to believe that the technology may pose practical challenges for antitrust enforcement. Antitrust law is set up on the premise that there is a clearly demarcated firm (or set of firms) that may try to seek market power. The decentralised nature of the technology means that identifying an entity to prosecute or hold responsible for any degree of market power (or its abuse) is impossible, and that collusion and price setting between competitors may be harder to detect.

The paper begins by describing the blockchain, and why it should matter for antitrust.

From an economics perspective, an implementation of blockchain technology has two key characteristics: (i) a set of shared data; and (ii) an incentive system (‘consensus rules’) designed to ensure that the shared data may only be updated in a way that reflects the truth. At a high level, blockchain technology allows a network of economic agents (individuals, firms, devices, etc.,) to agree, at regular intervals, about the true state of some jointly curated, shared and maintained data. This shared data can represent not only ownership or balances in a cryptocurrency (a ‘distributed ledger’, as in Bitcoin or Ethereum), but also in other types of digital assets such as financial assets, equity or property rights on digital resources such as file storage, digital content, and information. Any update or change to the shared data is secured through a clever mix of cryptography and economic incentives, and can be extended through the use of smart contracts, which are software that define which transformations should be applied to the data in response to different types of events.

Since no intermediary is needed to perform the custody or an exchange of assets recorded on a blockchain, for the first time in history the technology allows for value and digital assets to be reliably transferred between distant parties without any external institution or organisation. By allowing economic agents to verify transactions and their attributes without pre-existing trust or third-party verification, blockchain technology fundamentally changes how marketplaces operate. This is particularly relevant for digital marketplaces, since blockchain technology lowers the cost of verifying digital information but does not lower the cost of verifying offline information.

From an antitrust perspective, the most crucial thing to understand is the type of incentive system put in place to protect the shared data on the blockchain. As one might expect, a key element is who can participate in the broadcasting of new transactions, maintenance of the shared data and formation of consensus. This leads to a distinction between different types of blockchain.

Permissionless blockchains such as Bitcoin and Ethereum allow anyone to participate as long as they follow the rules of the protocol. This means that barriers to entry and participation are typically extremely low. Furthermore, updating the shared data is a process that requires consensus among network participants (e.g. a majority of the nodes supporting the change), hence no single participant can change the shared data through a unilateral move.

Permissioned blockchains (sometimes also referred to as private blockchains) offer greater control to some of the participants, and may restrict the ability to write or read part of the data to a subset of trusted nodes such as an organization that is part of a consortium. In cases where trusted nodes have full control over the process that updates and maintains the shared data, permissioned blockchains are very similar to the distributed databases companies have been using for decades.

A second section then describes the advantages of blockchains for antitrust. In short, blockchain technology should reduce market power in digital platforms.

Firstly, a key concern expressed about digital platforms is that the scale of their information collection activities may lead to increased market power, making it extremely difficult for new entrants to compete against progressively more entrenched incumbents. Furthermore, by having a comprehensive picture of most interactions in a marketplace, a digital platform can exploit information asymmetry between the different sides of the market to its own advantage. A system based on blockchain technology where all entities have equal access to information about transactions, and no firm owns the information involved in transactions, could reduce the potential for market power that comes from instances where information is difficult to acquire, not easy to duplicate, and constitutes a friction between market participants.

Secondly, digital platforms naturally give rise to network effects. Network effects occur when a digital platform delivers more utility to a user as additional users join the platform too (direct network effects), or as more applications are developed on top of that platform (indirect network effects). This can lead to larger platforms being more attractive than smaller ones, and to those platforms acquiring market power. In theory, blockchain technology can be used to overcome the coordination challenges that otherwise lead network effects to be a source of market power, as it allows platform architects to design digital ecosystems where the benefits from platform adoption and growth are shared among different stakeholders such as users, developers of complementary applications, and providers of key resources. The development of crypto tokens that appreciate in value provide a good example of how blockchain-based platforms can solve the coordination problems that make it usually difficult for users or developers to abandon dominant platforms – by decoupling the benefits of participation from network effects, and hence from market power.

Thirdly, switching costs reinforce market power by making it harder for users to move seamlessly between platforms, for example to take advantage of better prices or offers. Switching costs have been at the centre of multiple antitrust cases, including the Microsoft browser case. Blockchain implementations are increasingly focused on reducing switching costs for users, and allowing applications built on top of different protocols to exchange data or even to transact directly with each other. This is facilitated by the fact that most permissionless platforms are built as open source code and, therefore, allow other applications and platforms to interface with their network as long as they comply with the requirements of their protocol. Moreover, many platforms have a native token that not only facilitates exchanges on the platform, but also makes it extremely easy to convert assets between different ecosystems.

Last, it is worth mentioning the technological peculiarities of ‘forking,’ which increase the competitive pressure on any blockchain-based platform and the team managing its evolution. Since the codebase of permissionless blockchain protocols is typically open source, if a group of users or developers is unhappy with the team maintaining the code or with the rules through which the protocol forms consensus over time and allocates rewards to contributors, it can fork the codebase together with the entire history of transactions and start a separate, backwards compatible blockchain. The ability to fork a blockchain in this manner means that, in theory, any permissionless blockchain faces constant and real competition from being forked if it is judged to not be optimising the welfare of its different participants. Moreover, if such a fork offers better governance or is more competitive, it will quickly gather users and developers since switching costs are extremely low.

A third section then lists the challenges that blockchains may pose for antitrust.

The challenges flow mainly from the blockchain’s decentralisation. Intellectually and practically, antitrust enforcement is designed to tackle instances where market power has been centralised. A particular challenge is that antitrust enforcement revolves around the idea that there are ‘firms’ which are the subject of competition law, and that can be the focus of an investigation and the target for potential fines and prosecution. Blockchain technology removes the need for a firm to manage the transactions that occur on a digital platform. Indeed, the entire premise of a permissionless blockchain-based platform is that it is completely decentralised and does not need a single entity to sponsor it or to support its operations. For example, if the suppliers of resources (e.g. miners in an ecosystem like Bitcoin, data storage providers in a decentralised storage network like Filecoin or Sia) use their control over key inputs to shape competition on a decentralised marketplace in their favour, it will be difficult for antitrust to intervene, as many of these suppliers could be small, hard to identify and geographically dispersed.

It may be tempting therefore for antitrust authorities to think that any enforcement actions should be directed at the initial architects of a blockchain platform. However, given the fact that the most successful implementation of blockchain technology so far – Bitcoin – was set up by an individual (or group of individuals) who has managed to remain anonymous for a decade despite having access to holdings of the cryptocurrency worth billions of dollars, there are reasons to doubt that the identification of the initial architects will always be feasible. Even in cases where it is possible to identify the initial architects, it is not clear it would be reasonable to target enforcement at them, since, if the system is truly decentralised, they would not have the power to alter or influence its evolution. All they could do is advocate for specific changes to be implemented, possibly by supporting a fork of the network.

Another concern relates to permissioned blockchains. They have much in common with traditional databases. The major difference is that, unlike in a database controlled by a single entity, a blockchain-based ledger may have accurate historical records of all changes made to a piece of information replicated across multiple entities. As such, they may have significant impact in terms of how feasible and costly it will be to pursue e-discovery; and, in the case of encrypted data, could lead to situations where antitrust authorities have no way of recovering the original information.

A last concern is collusion. Permissioned blockchains are not necessarily immutable, and key participants could technically collude to rewrite the log of transactions before discovery takes place. Furthermore, under the guise of the need to protect confidential information or privacy, participants in a permissioned system could tightly control which participants receive access to different pieces of information, leading to entrenchment of market power. The risk of collusion is also present when industry-based consortia are formed to develop a shared blockchain solution. On the other hand, a distributed ledger could in theory be used to allow for better monitoring of collusive price arrangements, as participants could design it in a way that allows them to de-anonymise the transactions of competitors, or at least observe aggregate transaction patterns. This could be enhanced by the use of smart contracts and artificial intelligence to automatically respond to changes in the marketplace or actions by participants, further obfuscating collusive actions and facilitating the implementation of price or quantity setting arrangements.

Comment: This is a short and fairly clear overview of what the blockchain is, and how it may matter for competition enforcement in the future. I recommend it as a good intro to the topic – even if I think it may skim over the challenges that may arise regarding the investigation of (traditional) anticompetitive conduct occurring in the blockchain.